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Lecture Essentials of corporate finance - Chapter 8: Net present value and other investment criteria

After studying this chapter you will be able to: Understand the payback rule and its shortcomings, understand accounting rates of return and their problems, understand the internal rate of return and its strengths and weaknesses, understand the net present value rule and why it is the best decision criteria. | Net Present Value and Other Investment Criteria Chapter 8 Key Concepts and Skills Understand the payback rule and its shortcomings Understand accounting rates of return and their problems Understand the internal rate of return and its strengths and weaknesses Understand the net present value rule and why it is the best decision criteria 8- Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Essentials of Corporate Finance by Ross, Trayler, Bird, Westerfield & Jordan Slides prepared by Rowan Trayler Chapter Outline Net Present Value The Payback Rule The Average Accounting Return The Internal Rate of Return The Profitability Index The Practice of Capital Budgeting 8- Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Essentials of Corporate Finance by Ross, Trayler, Bird, Westerfield & Jordan Slides prepared by Rowan Trayler Good Decision Criteria We need to ask ourselves the following questions when evaluating decision criteria: Does the decision rule adjust for the time value of money? Does the decision rule adjust for risk? Does the decision rule provide information on whether we are creating value for the firm? 8- Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Essentials of Corporate Finance by Ross, Trayler, Bird, Westerfield & Jordan Slides prepared by Rowan Trayler Project Example Information You are looking at a new project and you have estimated the following cash flows: Year 0: CF = -165,000 Year 1: CF = 63,120; NI = 13,620 Year 2: 70,800; NI = 3,300 Year 3: 91,080; NI = 29,100 Average Book Value = 72,000 Your required return for assets of this risk is 12% 8- Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Essentials of Corporate Finance by Ross, Trayler, Bird, Westerfield & Jordan Slides prepared by Rowan Trayler This example will be used for each of the decision rules so that the students can compare the different rules and see that conflicts can arise. This illustrates the importance of recognizing which . | Net Present Value and Other Investment Criteria Chapter 8 Key Concepts and Skills Understand the payback rule and its shortcomings Understand accounting rates of return and their problems Understand the internal rate of return and its strengths and weaknesses Understand the net present value rule and why it is the best decision criteria 8- Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Essentials of Corporate Finance by Ross, Trayler, Bird, Westerfield & Jordan Slides prepared by Rowan Trayler Chapter Outline Net Present Value The Payback Rule The Average Accounting Return The Internal Rate of Return The Profitability Index The Practice of Capital Budgeting 8- Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Essentials of Corporate Finance by Ross, Trayler, Bird, Westerfield & Jordan Slides prepared by Rowan Trayler Good Decision Criteria We need to ask ourselves the following questions when evaluating decision criteria: Does the decision rule adjust for the